Coca Cola Analysis (Accounting)
The Coca Cola Company is the world’s leading owner and marketer of nonalcoholic beverage brands. In order to achieve long-term sustainable growth they look at their brands, financial strength, unrivaled distribution system, global reach, and a strong commitment by management and associates worldwide. The company focuses on inspiring their employees, satisfying customer desires, nurturing partners, making a global difference, maximizing returns to shareowners, and managing for overall effectiveness.
The financial statement that the Coca Cola Company provides shows their strong leadership by the data they present. By discussions held in class it allows us to analyze the following detail: stockholders’ equity, dilutive securities and earnings per share, investments, revenue recognition, income taxes, pensions and postretirement benefits, leases, changes and error analysis, and cash flows. All numbers presented throughout this discussion are in millions.
With respect to the Coca Cola statement, we have determined that through the owner’s equity the corporation had three categories: capital stock, additional paid in capital, and reinvested earnings. As we discussed in chapter 15, common stock can be issued par value, no-par, lump-sum sales, and noncash transactions. We have determined that the Coca Cola Company did not issue preferred stock. If Coca Cola were to issue preferred stock it would give features to the holders that differs from those who were issued common stock.
Some things that are associated with preferred stockholders would be preference to dividends, assets if company is liquidating, convert their shares into common stock, have the callable option, and nonvoting. The Coca Cola Company had 3,250 shares of common stock issued at $.
25 par value to employees related to stock compensation plans. Since stock was issued above par it has an increase to addition paid in capital, making up the difference in par.
The capital surplus (additional paid-in capital) was due to increase in stock issued related to compensation, decrease to tax benefit from employees’ stock option, and increase stock-based compensation resulting in an amount of $8,537. The retained earnings stated had a beginning balance of $38,513 from 2008, with the addition of income made in 2009 at $6,824. During the year they declared $. 41 dividends to the shareholders each quarter giving $3800 declared dividends at year-end.
As discussed in class there are reasons why companies would not pay dividends equal to their legally available retained earnings.
Some of the reasons we stated were maintaining agreements with creditors, to meet state corporation requirements, to retain assets that would be paid out as dividends to finance growth, to smooth out dividend payments from year to year, or to build a cushion against possible losses. With Coca Cola having a loss in 2008 due to carrying value it would be important for them to follow the reason to have a cushion incase another loss needs to be recorded in future periods. In chapter 16 in regards to 15, we have determined that the basic net income per share was $2. 95 and diluted net income per share was $2. 93 in 2009.
We can see that this was calculated through the given consolidated net income and net income attributable to shareowners. As discussed in class the basic net income is calculated by net income per share divided by weighted shares outstanding. Shares outstanding were 2,324, 2,315, 2,312, and 2,303 for quarters one, two, three, and four providing us with the average weighted shares outstanding of 2,314 for 2009 (shown in the full consolidated statement of income). After finding the average number of shares outstanding we can compute the basic earnings per share by dividing $6,824 net income by 2,314 weighted shares outstanding giving us $2. 5.
A complex capital structure exists when a corporation has convertible securities, options, warrants, or other rights that upon conversion or exercise could dilute earnings per share. The Coca Cola had exercised 15 shares in 2009 so as discussed in class when calculating their diluted earnings per share they add treasury stock exercised.
The calculation for dilutive earnings per share adds in the 15 exercised shares giving us an average shares outstanding of 2,329. In all, the dilutive earnings per share is calculated by the $6,824 net income divided by the 2,314 average shares outstanding plus 15 dilutive securities giving us $2. 3 per share.
The Coca Cola statement had not shown any conversions in preferred stock since it was not recognized and no convertible bonds were recognized so no conversions were accounted for. In regards to chapter 16, if the company decided to issue securities they could obtain warrants making the security more attractive. One of the securities that did make the company more attractive would be the marketable securities of $62. The reason that Coca Cola would decide to obtain marketable securities would be for the following reasons: igher rate of return, convert into cash because of investment liquidity, or easy decision making for buying or selling. The Coca Cola shows that the marketable security as a short-term investment making the company more attractive for 2009. We have determined that a warrant in stock compensation plans were given in this current period.
Some reasons that compensation programs are effective which were discussed through class were to create company performance, motive employees to high levels, help retain executives, maximize the employee’s after tax benefit, and minimize the employer’s after tax.
The determination of compensation expense due to stock options plans were accounted for under the fair value method. As discussed in class, a company recognizes the value of the options as an expense in the periods in which the employee performs services; $241 was expensed in 2009. With respect to the Coca Cola Statements we have determined that the company incurs equity method investments under trading securities and and available-for-sale. As discussed in class, the equity method means that the investor has significant influence over the investment and holds 20-50% of ownership.
Coca Cola has the following equity method investments: FEMSA, Enterprise Inc.
, Amatil Limited, Hellenic Bottling Company, Icecek, Continental, Embonor, Bottling Co. , and Polar. As stated in chapter 17, the company originally records the investment at the cost of the shares acquired but subsequently adjusts the amount each period for changes in the investee’s net assets. Coca Cola clarifies this in their equity investing notes by stating that they evaluate their fair value to their cost basis in investment every reporting period.
The Coca Cola chooses to recognize unrealized gains or losses when accounting using the fair value option. As discussed in class, trading securities will recognize unrealized gains and losses in net income and interest when earned.
The securities for available-for-sale will recognize unrealized gain and losses under comprehensive income under stockholders’ equity. The Coca Cola Company has recognized $52 in 2009 for their available-for-sale securities under other comprehensive income. In 2009, we can see that Coca Cola showed a carrying value of $4,114 and fair value of $13,215.
As discussed in class this means that the company does not need to be assessed for impairment. The reason was based off of management’s decision to realize the loss on impairment for approximately $81 during the fourth quarter in 2008.
This impairment also affected the equity loss of $875 that was presented in 2008 that led an increase of $1655 in 2009 showing $781 equity income in 2009. Coca-Cola does not typically raise capital through the issuance of stock. Instead, they use debt financing to lower their overall cost of capital and increase their return on shareholders’ equity.
Revenue Recognition was the main focal point in chapter 18. Revenue transactions for Coca-Cola are initiated and completed at the same time.
That is, Coca-Cola meets the conditions for recognizing revenue (being realized or realizable and earned) by the time it delivers its products. For this reason, Coca-Cola uses the revenue recognition at point of sale method. When looking to the company’s annual report, Coca-Cola explicitly states that it recognizes revenue when title to its products has been transferred to its bottling partners, resellers, or other customers.
Coca-Cola clarifies that title usually transfers upon shipment to or receipt at its customers’ locations, which are determined by specific sales terms of each transaction. As noted in chapter 18 of our textbook, when it comes to using the point of sale method, some implementation problems can occur. These problems include sales with discounts, sales with right of return, sales with buybacks, bill and hold sales, etc.
We can see some of these implementation problems taking place when looking to Coca-Cola’s revenue recognition.
Coca-Cola customers are able to earn certain incentives including cash discounts, funds for promotional and marketing activities, volume-based incentive programs and support for infrastructure programs. To avoid overstating its revenue, it is vital that Coca-Cola make estimates to account for such customer incentives. To reach these estimates, which will be deducted from revenue, Coca-Cola’s management looks to contractual terms, customer performance and sales volume, and considers past results.
Coca-Cola includes these incentives’ estimates in deductions from revenue, a component of net operating revenues in its consolidated statements of income. The aggregate amount of deductions from revenue recorded by Coca-Cola for these programs in 2009, 2008, and 2007 were approximately $4.
5 billion, $4. 4 billion, and 4. 1 billion, respectively. These figures include the amortization expense on infrastructure programs. Other types of revenue recognition that we discussed in class were percentage of completion, completed contract and installment sales.
The first two types, percentage of completion and completed contract, are mainly used in construction business and therefore would rarely if ever be seen in the financial statements of Coca-Cola.
The installment sales method recognizes income in the periods of collection rather than in the period of sale. As we have stated, Coca-Cola records its sales at point of sale so again we would not expect to see any installment sales on any of their records. Another topic which we touched on in class in regards to the wholesale distributor and manufacturing industries was trade loading and channel stuffing.
In short they described the manufactures over selling and possibly at a deep discount to the customers in order to show higher sales and profits than they actually have. These practices misrepresent operating results and “window dress” financial statements. We are not implying that Coca-Cola does such practices but it should be known that these methods have been and will likely continue within the business world.
As we have learned through our discussion of chapter 19, income tax expense is comprised of both a current tax component and a deferred tax component.
With deferred tax liabilities, the income tax expense will be comprised of a current tax expense and a deferred tax expense. For example, for 2009 Coca-Cola reported an income tax expense of $2,040 (in millions) on its income statement. When looking to Coca-Cola’s notes on income taxes, we can see that for that same year the company reported a current tax expense of $1,687 and a deferred tax expense of $353 ($1,687 current tax expense + $353 deferred tax expense = $2,040 total income tax expense).
A deferred tax liability can also be seen in Coca-Cola’s numbers for 2007 ($1,783 current tax expense + $109 deferred tax expense = $1,892 total income tax expense).
With a deferred tax asset, the total income tax expense consists of a current tax expense and a deferred tax benefit. For example, in 2008 Coca-Cola reported an income tax expense of $1,632 on its income statement. In Coca-Cola’s notes on income taxes, the company reported a current tax expense of $1,992 and a deferred tax benefit of $360 ($1,992 current tax expense – $360 deferred tax benefit = $1,632 total income tax expense).
To reach the consolidated net income seen on its income statement, Coca-Cola simply reduces its income before income taxes by the above specified income tax expense amounts for each year. Chapter 20 of our text dealt with pensions and post retirement benefits. In class we discussed two types of pension plans, defined contribution plan and defined benefit plan.
With a defined contribution plan, the employer agrees to contribute to a pension trust a certain sum each period with no guarantee the benefits will be there when the employee retires. In this situation, the employee bears the risk.
With a defined benefit plan, a certain amount of benefits is put away for an employee, and a certain amount must be there for the employee to collect upon retirement. These benefits are usually determined by factors such as employee’s years of service and compensation level in the years right before retirement. With a defined benefit plan, the employer bears the risk.
As we can see in Note 10 of Coca-Cola’s Notes to Consolidated Financial Statements, the company sponsors qualified defined contribution plans, which substantially cover all U. S. employees.
In addition, the company also sponsors nonqualified, unfunded defined benefit plans for certain associates. When accounting for pensions, the five components of pension expense, as listed in chapter 20, are service cost, interest on the liability, actual return on plan assets, amortization of prior service cost and gain or loss.
The components of Coca-Cola’s net periodic benefit cost for its pension and other postretirement plans for 2007, 2008 and 2009 year ends consist of service cost, interest cost, expected return on plan assets, amortization of prior service cost and amortization of actuarial loss.
The service cost for the company’s pension benefits were $113, $114, and $123 (in millions) for 2009, 2008, and 2007, respectively. Interest costs saw an increase over these three years, going from $191 in 2007, to $205 in 2008, to $213 in 2009. While chapter 20 initially emphasizes actual return on plan assets as a component of pension expense, here we can see Coca-Cola instead reports their expected returns on plan assets. This approach is used by actuaries, and was adopted by FASB to reduce wide swings that could potentially occur in the actual return.
To reach the expected return of plan assets amount, a company multiples the expected rate of return by the market-related value of the plan assets. Coca Cola’s figures for this component were reported in the negatives all three years. Additionally, the amortization of prior service cost for the Coca-Cola’s pension benefits went up from 2007 to 2008, from $7 million to $10 million, and then went back down in 2009 to $5 million. In chapter 21, we discussed accounting for leases. A lease is a contractual agreement between a lessor (the owner of the property) and a lessee (the one getting the rights to use the property).
There are a few advantages to leasing instead of purchasing. These advantages are: 100% financing at fixed rates, protection against obsolescence, flexibility in lease agreements, less costly financing, tax advantages, and possible off-balance-sheet financing. Each of these advantages are reasons for the growth of leasing amongst entities. The two types of leases are capital and operating. There is a specific criterion to distinguish between the two.
In order to record a lease as a capital lease it must be noncancelable. Additionally, it must meet one or more of the following requirements. 1)The lease transfers ownership of the property to the lessee. (2) The lease contains a bargain-purchase option which allows the lessee to purchase the leased property for a price that is significantly lower than the property’s expected fair value at the date the option becomes exercisable. (3) The lease term is equal to 75 percent or more of the estimated economic life of the leased property. (4) The present value of the minimum lease payments (excluding executory costs) equals or exceeds 90 percent of the fair value of the lease property.
If none of these four requirements are met than the lease is recorded as an operating lease. Also, if the lease is cancelable than it is to be recorded as an operating lease. Capital leases transfer substantially all the benefits and risks to the lessee where as operating does not. The two types of leases also differ in their recordings. Capital leases are recorded as liabilities for the lessee and receivables for the lessor where as accounting for operating leases records expenses for the lessee and revenues for the lessor.
Under the capital lease method a financing transaction is taking place and an obligation is created hence the nature of the liability. It is recorded at the lower of (1) the present value of the minimum lease payments or (2) the fair value of the leased asset at the inception of the lease. Companies are not to record a leased asset for more than its fair value. With an operating lease there is no asset and related liability on the balance sheet, there is only an expense on the income statement. In regards to depreciation, it is recorded only under a capital ease because there is no asset on the balance sheet under an operating lease.
The depreciation is recorded at the economic life of the asset if the lease agreement transfers ownership or contains a bargain-purchase option. If the lease agreement has neither of those two criteria than the asset is depreciated over the term of the lease. In regards to Coca-Cola they lease land, office and warehouse space, computer hardware, machinery and equipment, and vehicles under noncancelable operating lease agreements expiring at various dates through future years.
Some leases contain guaranteed residual value which is the amount Coca-Cola will pay the lessor at the end of the lease to purchase the property or the amount Coca-Cola guarantees the lessor to realize after the property is returned. Also found in their financial statements are capital leases.
Companies can have both leases and both can help the financials of a business; it is merely just the preference of how to record the asset being acquired, as long as the follow the guidelines of classifying the lease.
With all this being said about capital and operating leases, the following differences occur if using a capital lease instead of an operating lease: (1) an increase in the amount of reported debt, both short and long term (2) an increase in the amount of total assets and (3) a lower income early in the life of the lease and, therefore, lower retained earnings. With this in mind one cannot simply compare companies earnings per share and say one is better than the other. Many factors contribute to such calculations.
Imagine that Coca-Cola renewed its leases and altered the agreements to change their lease from an operating to a capital lease. Such a change would directly effect the income statement because less expenses would be recoded and subsequently the balance sheet would gather more assets and liabilities again effecting the numbers.
It is very important to look into the business holding and dealings of a company before making decisions about the prosperity of a business. Chapter 22 discusses accounting changes and error analysis. The FASB has established a reporting framework, which involves three typesof accounting changes.
The three types are: (1) change in accounting principle, (2) change in accounting estimate, and (3) change in reporting entity. A fourth category, errors in financial statements, necessitates change but it is not classified as an accounting change. A change in accounting principle involves a change from one generally accepted accounting principle to another such as LIFO to FIFO.
Adaption of a new principle in recognition of events that have occurred for the first time such as adopting an inventory method for a newly acquired item is not a change in accounting principle. Reporting changes can be cumulative, retrospective, or prospective.
The FASB requires that companies use the retrospective approach unless a company cannot reasonably determine the amounts in which they need to restate in prior periods. As discussed in class, upon a change in principle, a note should be reported in the notes of the financial statements as to why and the effects of the change on net income and therefore retained earnings. In regards to a change in accounting estimate, companies are to report prospectively.
They are not to adjust previously reported results but instead account for the effects of all changes in the current and future periods.
Possible changes in estimate effect: uncollectible accounts, inventory obsolescence, useful lives and salvages values of assets, and periods benefited by deferred costs to say the least. Again a note is to be reported in the financial statements for a change in estimate. In regards to this chapter and as stated by Coca-Cola is their financial statements, “There have been no changes in the Company’s internal control over financial reporting during the quarter ended December 31, 2009 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting. In chapter 23 we discussed the statement of cash flow which helps provide information to help investors, creditors and others asses the following: (1) the entity’s ability to generate future cash flows (2) the entity’s ability to pay dividends and meet obligations (3) the reasons for the difference between net income and net cash flow from operations and (4) the cash and noncash investing and financing transactions during the entity’s accounting period. The statement of cash flows is separated into three parts: operating activities, investing activities, and financing activities.
The operating activities involves income statement items such as cash receipts from sales of goods and services, and cash payments to suppliers and employees for acquisitions of inventory and expenses. The investing activities generally involve long-term assets and include making and collecting loans, acquiring and disposing of investments, and productive long-lived assets. The financing activities involve long-term liability and stockholders’ equity items.
This includes obtaining cash from creditors and repayments of loans, and obtaining capital from owners and providing them with a return on and a return of the investment. In regards to Coca-Cola’s statement of cash flows, a steady rise in operating activities is shown from 2007 to 2009 with numbers being 7,150, 7,571, and 8,186 in 2009 respectively. By looking at the investing activities we see that half of Coca-Cola’s net cash used is in relation to purchasing of investments of 2,152, which could lead to significant rates of return in the next coming years.
Upon review of the financing activities we see that Coca-Cola has paid off 12,362 of its debt in 2009, which is a third more than the past two years combined, which in the eyes of a possible lender such as a bank is a very good sign. This shows that they are able to pay off their debts and not let them sit on the financial statements. Also Coca-Cola paid 3,800 in dividends this current year which is more than it has paid in the previous two years.
This is a positive sign for possible speculators looking to buy stock in the company and also for current stock holders. Another positive is the net increase in cash from 2008 from 4,701 to 7,021. With the rise in cash and cash equivalents it shows that Coca-Cola is doing well and could have the ability to reinvest in other forms of securities.
We can check to see that the correct balance was reached in the statement of cash flows by verifying it with the cash balance on the balance sheet. Upon review they both has the correct balance of 7,021.
In respect to this analysis as a whole, we, the accountants of tomorrow, have learned a great deal in being able to combine the readings of these chapters, the homework, and our discussions in class to better understand Coca-Cola’s financial statements, and financial statements as a whole. With so much going into the process and reporting of such statements it can be easy to get lost and misinterpret the true numbers behind a company. By analyzing Coca-Cola in regards to the chapters we have covered when can better grasp the practice of accounting and the methods of reporting used.